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September 14, 2009

A Year Later, Lessons Learned From the Financial Crisis

At Schwab Impact, El-Erian and Fink say we're safer, but not necessarily safe

When asked how close the financial services universe came to a complete meltdown one year ago, Mohammed El-Erian said that in the runup to the October 8, 2008, meeting of the G8 nations, he called his wife from the road to recommend she get to an ATM and withdraw plenty of cash, since he feared that the nation's banks might not open the next day. The candid admission about a potential bank holiday from El-Erian, now PIMCO's CEO and co-CIO, came during the premiere pre-conference session at Schwab Advisor Services' Impact 2009 conference on September 13. He was responding to a question from CNBC's Tyler Mathisen who asked El-Erian and fellow panelist Laurence Fink of BlackRock on whether the financial system is safer now than a year ago, but also how close we came to the brink in those dark days. Fink posited that yes, the system is "very much safer," but "are we safe?" he continued, "I can't answer that with much conviction."

However, the BlackRock chairman and CEO, who was a key advisor to the government during the Lehman Brothers-Merrill Lynch-AIG saga last September, argued that "we do have a stronger system than we had three years ago; we had many structural problems, and our growth was leveraged." To explain how "we're safer, but not yet safe," and to describe how the environment has changed, El-Erian used the analogy of a football game to describe the current state of the economy and markets: "The government used to be the referee; now it's on the field, and that will have unintended consequences."

Responding to a question from Mathisen on why diversification didn't protect investors in 2008, El-Erian said that "everything was correlated that needed liquidity, that had risk." He said that "oxygen was taken out of the system," and that after September 15, 2009, "it didn't matter what markets you were in," because all suffered. One of the benefits of the market meltdown, he said, was that "in the next five years, we'll learn much more about diversification."

There has been much speculation, and some accusations, on the government's role in allowing Lehman Brothers to file for bankruptcy on September 15, 2008. However, Fink said that in the government discussions just before that date with then-Treasury Secretary Henry Paulson, Fed Chairman Ben Bernanke, and New York Fed President Timothy Geithner, the liquidity problems of Merrill Lynch and AIG were so serious, that "Lehman looked small" in comparison. With the pressure of time, "nobody looked at all the Lehman debt" held across the industry, especially among money market funds. "If we had had even a week," said Fink, things might have been different, suggesting that Lehman might have been saved, which might have kept the Reserve Primary fund from breaking the buck, which both men said was the nadir of the crisis, and which moreover led to its global extension.